2/27/2002 @ 3:40PM

Enron Analysts: We Was Duped

“We have very different methods and approaches and we all reach our conclusions based on our own independent analysis,” said Anatol Feygin, an analyst for J.P. Morgan Securities, testifying earlier today to a U.S. Senate committee investigating the Enron affair, and each of his colleagues nodded in unison.

Despite their independence and the variance in their techniques, nearly every sell-side analyst reached the same conclusions about
Enron
in 2001, right up to the brink of its bankruptcy on Dec. 2. As of Oct. 18, all 15 analysts tracked by Thomson Financial/First Call rated Enron a “buy”–12 of the 15 called it a “strong buy.” Even as late as Nov. 8, the date of Enron’s disclosure that nearly five years of earnings would have to be recalculated, 11 of the 15 recommended buying the stock. (There were three “holds” and one “strong sell.”)

In short, the analysts are all different, but in exactly the same way.

The Governmental Affairs Committee held the hearing to inquire into what committee members called “inherent conflicts of interest” between analysts who recommend stocks and investment bankers who advise companies and sell securities, as well as the possible too cozy relationships between the analysts and the companies they cover.

Despite many reports to the contrary, all of the four Wall Street analysts testifying said they felt no pressure either from their own firms or from Enron to tout the stock. Rather, they all believed, based on public information and their own analyses, that Enron’s “core business” was sound and profitable and that its business model was “portable” beyond buying and selling energy to other markets.

The analysts say they reached their conclusions separately. But, even in a universe where two-thirds of the recommendations are “buy,” the mathematical odds of a dozen analysts all reaching the same conclusion independently are less than one-in-100.

Asked whether they felt pressure from the investment banking side of their securities firms, they all said no. Asked if they were aware of equity positions of their own firms or their role in underwriting Enron equity or debt, they all said they only knew what they read in the newspapers.

In response, Sen.
Jim
Bunning
Jim Bunning
(R- Ky.) said, “That blows my mind, because just as an account executive, I was aware of it.” Bunning earlier said he had spent 25 years in the securities business before his election to Congress.

How is it possible that nearly all the analysts missed the mark on Enron? “The short answer…is that we now know we were not provided with complete and accurate information,” said Raymond Niles, an analyst for Salomon Smith Barney, in a statement echoed by others.

Several senators were agog at the analysts’ proclivity to recommend Enron shares even as it fell from roughly $90 per share to about $30, where it rested before Enron’s report of a $1 billion writeoff and a $1.2 billion reduction in shareholder equity. Sen.
Robert
Bennett
Robert Bennett
(R-Utah), another veteran of the markets, said he was told early in his career, “Don’t buck the trend.” The analysts recommended the stock, despite the trend. “I read [the reports] and there is nothing that says there is going to be a bounce in the business [or] a shift in the trend,” Bennett said.

None of the analysts disagreed with this observation. But one–Richard Gross of Lehman Brothers–said that to understand why Enron went down, one must understand why first it went up from $40 per share to $90. “It was principally a broadband bubble,” he said.

Even when the bubble in the broadband business burst, Enron Chief Executive
Jeffrey
Skilling
Jeffrey Skilling
and Chairman
Kenneth
Lay
Kenneth Lay
continued to issue numbers showing rapid growth. They said the core business would continue to grow and the analysts believed them. Skilling’s resignation on Aug. 14, the analysts all agreed, was a warning sign, but didn’t upset their faith in the Enron business model or its “deep and talented” management team.

Buy recommendations are, of course, the norm on Wall Street. According to Thomson Financial/First Call, less than 2% of all analyst recommendations are “sell” or “strong sell.” Roughly one-third are “strong buy,” one-third “buy” and one-third “hold.” Analysts’ recommendations “were at their most positive levels at the peak of the market in the spring of 2000,”
Charles
Hill
Charles Hill
, Thomson’s director of research, told the committee.

The sell-side analysts said they saw no reason to change their view of Enron at the time. In hindsight they blame the company’s inadequate disclosure. But Sen.
Joe
Lieberman
Joe Lieberman
(D-Conn.), the committee chair, noted several journalist accounts and independent research reports that raised questions early in 2001.
Howard
Schilit
Howard Schilit
, president of the Center for Financial Research & Analysis, an independent research house (which did not follow Enron) testified that in a one-hour review of Enron’s public filings before the start of the collapse, he found several red flags: $1 billion in related party revenues: two thirds of company profits in one quarter coming from unconsolidated affiliates; and negative cash flow despite more than $1 billion in reported profits.

“For any analyst to say there were no warning signs in the public filings, they could not have been reading the same public filings as I did,” Schilit said.